Should the central bank be board-managed?

If the government wants it that way, it should opt for the US Fed's Board of Governors structure

The US Federal Reserve periodically holds “open” board meetings. Typically, it begins at 10 am at the Marriner S. Eccles Building on 20th Street and Constitution Avenue, NW, in Washington DC. The agenda of open board meetings are released to the public in advance. If anyone wants to attend such a meeting, one needs to register with date of birth, and social security number or passport number. One can even carry a camera with the approval of the US Public Affairs Office. The Freedom of Information Office keeps audio cassettes of such meetings up to past two years; one can buy such tapes paying $6 per copy.

Had the Reserve Bank of India’s (RBI) board meeting this week (on December 14) been an open one, the entire financial sector would have thronged to watch it on India’s Broadway — Mint Road, Mumbai, where the RBI is headquartered. 

This is the second act of the most popular play being enacted in the Indian financial system. Act I had two scenes, played on October 23 and November 19. We don’t know how many acts does this play have. Shakespeare usually wrote his plays in five acts, each act building on the ones before it to advance the story. 

The dramatis personae in this play include the RBI governor, four deputy governors, four directors from the RBI’s local boards, two government nominees and others appointed by the government -- overall 18 directors on the central board. 

Going by the events leading to the October board meeting and the proceedings of the last three meetings, it’s obvious that the government will not let loose the pressure to change the way the Indian central bank operates

Who is the protagonist of this drama? Who is the villain? It depends entirely on which camp you belong to. Also, on that basis, one needs to prepare for the happy ending or a catastrophe, whenever that happens.

Going by the events leading to the October board meeting and the proceedings of the last three meetings, it’s obvious that the government will not let loose the pressure to change the way the Indian central bank operates. It wants its board to play a dominant role. And, the government may not find it too difficult to have its way as apart from its own nominees, it appoints most other directors.

The development is interesting in the context of the observations made in the latest reports of the Financial Sector Assessment Program, run by the International Monetary Fund and the World Bank.

Among other things, two reports released in December 2017, pointed out the handicaps of RBI: “The RBI Act contains a number of powers enabling the central government to supersede the decisions of the RBI. Although these powers have not been used… their existence undermines the RBI’s legal independence.” 

Probably, this observation is made keeping in mind Section 7 of the RBI Act which the government recently threatened to invoke to “direct” RBI on a few issues. The reports also pointed out that “the RBI governor is not appointed for a minimum term but for a maximum one and may be dismissed at will by the government without disclosing the reasons for such actions”.

And, of course, both the reports extensively dealt with the subject of how RBI’s legal powers to supervise and regulate the government-owned banks are constrained as it cannot remove the directors or management who are appointed by the government. The RBI also has “limited legal authority” to hold the boards of such banks accountable. “Moreover, the government’s and the RBI’s roles in appointing senior management and placing their own officials on the boards create a conflict of interest with regard to the… supervision…”

I am not qualified to comment on the merit of what the government wants from the central bank, and, for argument’s sake, let’s also accept that the current RBI management is not sensitive enough to the financial sector and fiscal realities and its top brass must change their approach. An obvious question comes up: Does the RBI’s board have the competence and skill to handhold the management? Do the directors have the expertise in central banking? Historically, don’t some of the directors have conflict of interests when it comes to issues such as liquidity and interest rates as they run their own business houses? 
 

If indeed we want the board to manage the RBI, probably the government should take a close look at the Federal Reserve system which has a two-part structure — a central authority called the Board of Governors in Washington, DC, and a decentralised network of 12 Federal Reserve Banks located throughout the country. The Monetary Policy Committee of the RBI, on the lines of the Federal Open Market Committee, can have members of the board of governors apart from experts chosen from academia.

The seven-member board of governors of the US Fed is an independent government agency charged with overseeing the Federal Reserve system. The members are appointed by the US president and confirmed by the senate, serving staggered 14-year terms that expire in every even-numbered year. The board members are appointed for long terms in order to shield them from political pressures. The president designates a chairman and vice-chairman of the board, each of whom serve four-year terms. These appointments are subject to senate approval and may be renewed.

Till October 2017, Stanley Fischer was on the board. Who is he? A former governor of the Bank of Israel and  former chief economist of the World Bank. One of the current governors on the board, Randal Keith Quarles, is a former partner of the Carlyle Group, one of the world’s largest private equity firms. Under the George W Bush administration, he was under-secretary of the treasury for domestic finance. Another, Richard Harris Clarida, is an American economist, C Lowell Harriss Professor of Economics and International Affairs at Columbia University and, until recently, global strategic adviser for PIMCO. Yet another, Michelle W “Miki” Bowman, a fifth-generation banker from Council Grove, Kansas, is an American attorney.

We need whole-time directors of such calibre to run the Indian central bank. And, in that scheme, we do not need any deputy governor. If we don’t do that and still want the RBI board to take all critical decisions then it will be something akin to the board of a super-speciality hospital asking the surgeon which arteries to do bypass on in the operation theatre.

The columnist, a consulting editor of Business Standard, is an author and senior adviser to Jana Small Finance Bank Ltd. 

Twitter: @TamalBandyo